New loans create money directly, but they also create excess reserves in other banks, which leads to still further increases in both loans and the supply of money.

Question

Quizplus · Accepted Answer

When a bank makes a new loan, it increases the money supply because it is creating new money that did not exist before. However, since banks are required to hold a certain percentage of their deposits as reserves, they may have excess reserves after making the new loan. These excess reserves can then be used to make additional loans, further increasing the money supply.

New Loans Create Money Directly, but They Also Create Excess